Brown’s Beyond the Crash

Brown sees this is the first crisis of globalisation and highlights the role of Knightian uncertainty and of institutions that can appreciate and handle the risks, but is utlimately short on useful insight.

Gordon Brown: Beyond the Crash; overcoming the first crisis of globalisation.

“[This was] the first crisis to have its roots in the very process of globalisation itself” (p220)

The 314 page book is hard going but an essential contribution to the ‘what next’ debate. In particular, Brown maintains that the problem is not just one of deficits and debt, but one of globalisation (the global sourcing of goods, services and capital).

Brown’s views

Throughout his spells as Chancellor and PM Brown seems to have followed the then mainstream approach, but with a growing leaning towards Keynes providing a more cautious counter-weight. Brown’s Keynes is not the simplistic Keynes who will seek to spend his way out of any difficulty. Instead Brown is concerned with Keynes’ analysis, showing a much greater insight than mainstream economic commentators of this period, but perhaps not great enough. Brown’s practical thinking seems to have been focused on the mis-deeds of banks and the lack of effective regulation.

In an early speech Brown (p244) quotes a Bretton Woods speech:

“Prosperity has no fixed limits it is not a finite substance to be diminished by division. On the contrary the more of it that other nations enjoy the more each nation will have for itself.

“Prosperity like peace is indivisible. We cannot afford to have it scattered here or there amongst the fortunate or enjoy it at the expense of others…..”

Brown notes “prosperity to be sustained had to be shared”. Early on Brown (p20) goes along with the dominant view that risks should also be shared, as if they were diminished by division, so that ‘diversified risk’ leads to reduced ‘systemic risk’. This view seems to assume classical ‘rational decision making’, whereby all uncertainties and values are of the same kind and measurable on the same numeric scales, so that portfolios of instruments have values and risks that can be calculated, with the risk being greatly reduced. But as Keynes points out there are non-measurable components to uncertainty and risk, which we now know as ‘Knightian uncertainty’ , and they matter. Brown came to appreciate this, and the way that actions to reduce measured risk were resulting in the ignored or denied risks were accumulating as unseen systemic risk.

Brown’s pre-crash approach

The initial view of Brown and Balls was that if inflation was kept permanently low then “the gap between potential growth and actual growth was likely to be small” (p76). However (p252) one also needed an ‘early warning system for regional and global economic risk’. Although Browns’ views seem to have matured, failing to get a global early warning system Brown largely carried on with his initial strategy, which he delegated to the Bank of England.

The crash and after

When the crash came Brown had at least thought the issues through, including ‘war-games’ with the US, and quietly makes a good case for having saved the (financial) world. Brown diagnoses the current problem as due to a number of imbalances, which cannot be rectified by unilateral action. Instead he argues for global collaboration in which everyone has enough confidence in the overall plan and other parties to be able to accept any short-term pain and risks. Although he doesn’t labour the point, it seems that no nation or institution is strong enough to be able to coerce, bribe or otherwise ‘encourage’ other nations: it has to be a genuine collaboration leading to and building on genuine confidence. Brown regards the collaboration over the crash as a good start.

Brown sets economic recovery within a broader agenda of globalisation. He argues that the crash reflected an immoral aspect of globalisation, and that we need to develop a new, moral, globalisation ‘reflecting the values of the people of the world’ and building on ‘shared beliefs’. He recognizes the views of the ‘cynics’ and seeks to convince us that this would be to our own benefit, and that the world is ready for this.

Comments

Brown repeatedly refers to Keynes’ work on economics and uncertainty, but does not bring out their full significance or that of the logic of Keynes’ tutor, Whitehead. For example, Brown echoes Whitehead in saying (p231):

“The transition between epochs is always the moment of maximum danger. It is also the moment of maximum opportunity.”

From a Keynesian perspective, a transition between epochs is marked by a change in ‘the rules of the game’, brought about when the old assumptions (e.g. the efficient market hypothesis) fail. If one fails to recognize the change and carries on with the old strategies one will fail in the new epoch. If one grasps the new situation one has the best chance of succeeding, and the earlier one starts preparing for the transition and the new epoch, the better. One might even be able to precipitate, influence or forestall a transition. Each epoch has its own short-run logic, and epochs are embedded in supra-epochs that embody the logic of transitions and often have sub-epochs that embody the logics of what might otherwise appear ‘random’. A transition is often associated with a previously unimportant sub-epoch becoming at the nexus, so that attention to critical ‘details’ can influence the whole context. It is often helpful to consider events like this, so that one can apply the appropriate logic. Lacking such a view, Brown can only analyse at one level, thus leaving it to the reader to determine and apply the appropriate logic.

Much of the reported problems seem to be due to a lack of appreciation of uncertainty and the use of an inappropriate short-term (classical) logic for issues of sustainability. For example, Brown notes (p86) that:

“The purpose of it all [CDOs etc] was to transform risky, long-term loans into what were presented as risk-free, short-term, and desirable instruments.”

As Brown came to appreciate the work of Keynes he perhaps ought to have realised that ‘a risk shared is a risk reduced’ implies ‘a risk of infection shared is a risk of infection reduced’: one needs to consider the case in hand to select the appropriate ‘risk arithmetic’.

Further, Brown and Balls sought to keep inflation low so that actual growth would be close to potential, apparently – despite the Asian crisis – without considering the difference between potential sustainable growth and potential short-term growth. They also appear not to have appreciated the limitations of the term ‘likely’: in the long-run, the ‘unlikely’ becomes likely, simply due to the passage of time, and may become very likely if the context changes. Perhaps they did not think that they would be responsible for three terms?

For the future, Brown emphasises the need for ‘transparency’ but does not recognize the need to appreciate ‘potential’ and ‘what might have been’. He also (p109) says:

“But even now there can be no return to high levels of employment and growth without finding a way of harnessing finance’s creative energies to allocate resources and risk so effectively that it spurs and speeds economic growth.”

This raises the following, which Brown does not address:

How do we distinguish between sustainable and ‘bubble’ growth? How much of past growth was sustainable?

Can we be sure that knowledge resources and risk are allocated effectively unless we understand them?

Will we also need to hold back growth, to avoid bubbles? How? Based on what indicators?

What sort of logic will be needed? Classical? Empirical, after Keynes and Whitehead?

How will we explain our actions to others? What will their understanding of ‘resources’ and ‘risk’ be?

There seems to be a much greater research and education problem than Brown implies.

Conclusion

Successful globalisation seems to imply a means of determining values that tends to stabilise. But such a system cannot in itself ‘price in’ all the risks, and if agents in the market have an interest in inflating values, they will have an incentive to ‘talk down’ risks. Part of Brown’s remedy seems to be to have complementary organisations who ‘keep things honest’ by appreciating risk (in its fullest aspects) and alerting market players to them. All Brown’s other measures would need to be informed by a general comprehension of ‘total risk’. Unfortunately, Brown gives us few clues as to how to comprehend and communicate Knight’s ‘true uncertainty’, beyond referring to Keynes.